9.1 Explain the role sticky wages and prices play in economic fluctuations.9.2 List the determinants of aggregate demand.9.3 Distinguish between the short run and long run aggregate supply curves.9.4 Explain how the short-run aggregate supply curve shifts over time.

9.2 UNDERSTANDING AGGREGATE DEMAND (3 of 10)Why the Aggregate Demand Curve Slopes DownwardREAL-NOMINAL PRINCIPLEWhat matters to people is the real value of money or income—its purchasing power—not the face value of money or income.

As the purchasing power of money changes, the aggregate demand curve is affected in three different ways:

THE WEALTH EFFECT

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Wealth effectThe increase in spending that occurs because the real value of money increases when the price level falls.

9.2 UNDERSTANDING AGGREGATE DEMAND (4 of 10)Why the Aggregate Demand Curve Slopes DownwardTHE INTEREST RATE EFFECTWith a given supply of money in the economy, a lower price level will lead to lower interest rates.With lower interest rates, both consumers and firms will find it cheaper to borrow money to make purchases.As a consequence, the demand for goods in the economy (consumer durables purchased by households and investment goods purchased by firms) willincrease.

THE INTERNATIONAL TRADE EFFECT

In an open economy, a lower price level will mean that domestic goods (goods produced in the home country) become cheaper relative to foreign goods, so thedemand for domestic goods will increase.

9.2 UNDERSTANDING AGGREGATE DEMAND (6 of 10)Shifts in the Aggregate Demand CurveALL OTHER CHANGES IN DEMANDDecreases in taxes, increases in government spending, and an increase in the supplyof money all shift the aggregate demand curve to the right.

Higher taxes, lower government spending, and a lower supply of money shift the curveto the left.

9.2 UNDERSTANDING AGGREGATE DEMAND (7 of 10)How the Multiplier Makes the ShiftBiggerInitially, an increase in desired spending will shift theaggregate demand curve horizontally to the right from ato b.

The total shift from a to c will be larger. The ratio of thetotal shift to the initial shift is known as the multiplier.

TWO APPROACHES TO DETERMINING THE CAUSES OF RECESSIONSAPPLYING THE CONCEPTS #2: How can we determine what factors cause recessions?Economists have used the basic framework of aggregate demand and supply analysis to explain recessions. Recessions can occur either when there is a sharpdecrease in demand or a decrease in aggregate supply.Economic historian Peter Temin looked at all recessions from 1893 to 1990 to determine their causes. He found, recessions were caused by many different factors.

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Sometimes, as in 1929, they were caused by shifts in aggregate demand from the private sector, as consumers cut back their spending.

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Other times, as in 1981, the government cut back on aggregate demand to reduce inflation.

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Supply shocks were the cause of the recessions in 1973 and 1979.

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The most severe shock hit the U.S. economy in 1931 and converted an economic downturn into the Great Depression. He believes that foreign monetarydevelopments were the ultimate source of this shock to the U.S. economy.